Banks tests may boost confidence

8th May 2009, 0 comments

Stress tests of large US banks show more capital is needed but the picture is better than expected.

WASHINGTON – The "stress tests" of major US banks revealed a need for big capital boosts to weather a potentially deeper economic slump, but may ease fears about a new financial meltdown, analysts said.

The Federal Reserve's tests of 19 large financial firms found 10 banks need a total of USD 74.6 billion (EUR 55.7 billion, CHF 84.2 billion) as a "capital buffer" in case of wider losses.

But analysts said these capital boosts can be easily accomplished, especially since regulators will allow banks to swap preferred shares for what is considered more robust capital in the form of common stock.

"The additional capital requirements specified today are not particularly burdensome, and none of the banks should have any major problems reaching the indicated targets," said Brian Bethune, economist at IHS Global Insight.

Bethune said the process gets the financial system over a major hurdle but that the road remains difficult.

"While the 'stress tests' reveal a better-than expected picture of the present and future capitalization of the banking system, and a path for greater financial stability in the future, credit markets are a heck of a long way from functioning normally and in a manner that would be constructive for economic recovery," he said.

Bethune said that although the banks can survive, the Federal Reserve "will need to maintain maximum forward thrust on monetary policy and its various balance sheet programs for several more quarters in order to nurse the credit markets back to a recovery mode."

Mesirow Financial economist Adolfo Laurenti said the capital shortages are not as bad as some financial markets had feared: at least USD 100 billion.

"We end up at 75 billion, which is encouraging as long as you believe the actual numbers" in the Federal Reserve methodology, Laurenti said.

"At this point, the market and everyone should be confident we know exactly what will happen in the worst case scenario and it's something we can provide for."

But Laurenti said the documents released by the Fed left open many questions on how officials calculated their economic and loss assumptions.

"I don't think the government did a good job to provide the underlying numbers and assumptions on what these numbers are based," he said.

More sceptical, Robert Brusca at FAO Economics said "the main problem is that the banks have assets on their books they can't value."

Without hard numbers, he said the stress tests are "a public relations exercise."

But Fed Chairman Ben Bernanke said the results "should provide considerable comfort to investors and the public", despite the need for new capital in 10 of the 19 banks subjected to the process.

Bernanke noted that the Treasury "stands ready to provide whatever additional capital may be necessary to ensure that our banking system is able to navigate a challenging economic downturn."

Treasury Secretary Timothy Geithner stated the tests "will help replace the cloud of uncertainty hanging over our banking system with an unprecedented level of transparency and clarity."

Among the 19 banks tested, Bank of America had the largest need at USD 33.9 billion, followed by Wells Fargo with 13.7 billion.

Bernanke said nearly all the banks have sufficient capital "to absorb the higher losses envisioned under the hypothetical adverse scenario."